Residential mass-market housing: a defensive sector in an inflationary world

Mass-market housing is in structural undersupply in many European countries, including Ireland and the United Kingdom. Economy-wide shutdowns during the pandemic, as well as significant lifestyle changes with the rise of working from home, have exacerbated housing shortages.

At the same time, as a result of supply-chain disruptions triggered in the first instance by the Covid-19 pandemic, inflation in construction materials has been accelerating. So far, due to structural shortages, house-price inflation has absorbed construction cost inflation.

Russia’s invasion of Ukraine and the resulting sanctions are adding more pressure and uncertainty. The economic impact of the war operates through several mechanisms, including the energy price shock, new disruptions to building materials’ supply chains, and downward revisions to consumer and business confidence.

• Russia and Ukraine together account for 5% of global steel production and 4.4% of iron ore exports.
• Timber and pulp-and-paper products account for 3.6% of Russian exports, and sawn wood is the world’s 98th most-traded product with a total trade in 2020 of USD 37.1 billion.

Another concern is the situation in China, a country that needs to be considered in any discussion of supply chains and commodity prices. Over the last ten years, Chinese investments in infrastructure and real estate have been a major driver of commodity prices and the global economy. But China’s country risk has increased:

• Defaults among Chinese real-estate developers speak of a sector that is over-leveraged and over-invested and that is a threat to China’s financial system.
• While the West appears to be emerging from Covid-19, outbreaks in key Chinese cities could continue to disrupt global supply chains and fuel inflation.

While mass-market residential housing is not immune to supply-chain or inflation risks, the supply/demand imbalance will continue to be supportive of house prices for the foreseeable future. Moreover, even though rising interest rates are negative for house prices, borrowers can obtain mortgages at rates well below inflation. Other mitigating mechanisms exist, including the deferral of construction projects.

In a challenging economic environment, the defensive nature of financing the construction of mass-market, residential housing deserves consideration as housing is a basic human need. The sector itself is better positioned to adjust to supply-chain disruption and inflation risks than many other sectors in the economy.